QN 11 Market Structure (BTE and Competiton)

Market Structures
RI 2011 Prelim
Prelim Revision
Essay Question 11
Firms pricing and output decisions depend on

barriers to entry and the behaviour of
competitors. Discuss. [25]
Firms pricing and output decisions depend on barriers to entry

and the behaviour of competitors. Discuss. [25]
Prelims Revision
CCCA
Essay Outline
ACCA
Detailed Answer
Command
Content
Context
Discuss: To provide
relevant arguments for
and against an issue.
Generally, the issues
raised have some
normative aspect, or have
unspoken assumptions
that can be challenged.
Come to a judgment after
reviewing the issues.
Characteristics of
market structure
Behaviour of firms
(Pricing and Output
decisions)
Objectives of firms
No fixed context in terms

of examples to be given.
Answer has to relate
back to firms pricing and
output decisions.
Approach
Provide arguments for and against the issue as to whether barriers to entry and
behaviour of competitors determine firms pricing and output decisions. If not,
they may be other constraints.
VJC 2013 - Firms & How they Operate

Prelim Revision
CCCA
Essay Outline
ACCA
Detailed
Answer
Introduction
State Assumptions i.e. Profit Maximisation objective
Key Definitions- BTE
Overview
Body
Thesis
An analysis of how barriers to entry affect price and output
decisions
A TAS of whether behaviour of competitors affect a firms
price and output decisions
Anti-Thesis
Alternative objectives of firms e.g. sales/growth maximisation
Constraints e.g. small niche markets
Presence of Potential Contestable Markets
Government Intervention e.g. price controls, nationalisation
Overall Evaluation and Conclusion
Make a stand + Justification

Prelims Revision
Introduction
CCCA
Essay Outline
ACCA
Detailed Answer
According to the theory of the firm, firms make their

price and output decisions according to where they will
maximize profits. This means all firms will produce
where MC=MR and then set the price (or sell the output)
at the highest that their consumers are willing and able
to pay (given by the demand curve (AR) facing the firm).
Define and explain BTE natural and artificial.
In this essay, I will discuss whether firms pricing and

output decisions ultimately depend on barriers to entry
and the behaviour of competitors.

Prelims
Revision
CCCA
Essay Outline
ACCA
Detailed
Answer
Body: THESIS 1 (Barriers to Entry)

P: Firms pricing and output decisions depend on barriers to
entry.
E: BTE determines the type of market structure a firm is in.

(The absence of BTE together with perfect market
conditions lead to perfect competition while high barriers in
the extreme lead to monopoly.)
This in terms determines their price setting ability.
Compare pricing and output decisions (and hence type of
profits enjoyed in SR vs LR) of PC vs monopoly firms

Prelims
Revision
CCCA
Essay Outline
ACCA
Detailed
Answer

E:
Use diagram to show SR P and Q decision of PC firm and
how the lack of barriers result in entry of new firms in the
LR, affecting P and Q decisions (and hence profits)
Use diagram to show how high barriers result in lack of
competition and hence high market power, in turn affecting
pricing and output decisions of monopoly.
L: Link to next paragraph on how behavior of competitors
also affect P and Q decisions.

Prelims Revision
CCCA
Essay Outline
Body: THESIS 2 (Behaviour of Competitors)

P: Firms pricing and output decisions depend on the
behaviour of competitors.
ACCA
Detailed Answer
E:
Oligopoly: highly affected by behaviour of competitors,
resulting in competitive oligopoly/ collusive oligopoly.
Monopolistic Competition: MPC firms are able to set
P&Q to maximize profits without depending on the
behavior of their competitors because each firm has
such a small market share that whatever one firm gains
will have little effect on the other firms
( However, lack of barriers means they earn NP in the LR.)

Prelims Revision
CCCA
Essay Outline
ACCA
E: Draw kinked demand curve diagram (and cartel

diagram to show interdependency in Oligopoly.
Detailed Answer
Draw (SR and LR)P and Q and hence profit diagram of

monopolistic competitive firm.
L: Link to next paragraph to acknowledge that there are

also other factors that can affect P & Q decisions of
firms.

Prelims Revision
CCCA
Essay Outline
Body: ANTI-THESIS 2 (Constraints)

P: On the other hand, firms pricing and output
decisions also depend on the constraints that firms
face.
ACCA
Detailed Answer
E: Compare pricing and output decisions of firms

should they have other objectives e.g. providing for a
niche market, thus preventing firms from maximising
profits at MC=MR.
E:Show revenue maximisation diagram (MR cuts
horizontal axis),
firms.

Prelims Revision
CCCA
Essay Outline
Body: ANTI-THESIS 3 (Contestable Markets)

decisions also depend on the potential of contestable
markets
ACCA
Detailed Answer
E: Firms with high market power may not charge at a

price above marginal cost as the market may be one
that involves zero entry and exit costs (i.e.
contestable) to other firms.
E: Limit pricing occurs where monopolies charge below
profit-max price to prevent new entrants.
firms.

Prelims Revision
CCCA
Essay Outline
Body: ANTI-THESIS 4 (Govt. Intervention)

decisions also depend on presence of government
intervention.
ACCA
Detailed Answer
E: Governments may influence the pricing and output

decisions of firms should they have other objectives.
E: Regulation of natural monopoly (AC or MC pricing)
firms.

Prelims Revision
CCCA
Conclusion
Acknowledge other factors that can affect firms pricing
and output decisions.
Essay Outline
ACCA
Detailed Answer
Conclude based on type of market structure

Monopoly: BTE is a factor in determining P & Q, but
government intervention and theory of contestable
markets do dictate to a certain degree its P & Q
determination as well
Oligopoly:
Due
to
presence
of
mutual
interdependence, behaviour of competitors is an
important determinant in its P & Q decisions
MPC and PC: not strong determinants
In real world, market structure not clear-cut, firms
abilities to take into account competitors behaviour is
uncertain.

Prelims Revision
CCCA
Essay Outline
ACCA
Detailed Answer
Introduction
A firms price and output decision is affected by the
market structure it operates in. In this essay, we first
assume that the objective of the firm is one of profit
maximisation. With this assumption that all firms aim to
profit-maximize, firms will be able to determine their
output levels by producing at the point where MC = MR.
Here, firms will then set the price at the highest that
their consumers are willing and able to pay (given by the
demand curve facing the firm).
I will discuss whether firms pricing and output decisions
ultimately depend on barriers to entry and the behaviour
of competitors.

Prelims Revision
CCCA
Essay Outline
ACCA
Detailed Answer

P: Firms pricing and output decisions do depend on
barriers to entry. We will be comparing a PC firm and
monopoly firm to show the differences in pricing and
output decisions.
E: Any condition that prevents other potential firms
from entering the industry, thereby limiting the
competition for existing firms is called a barriers to
entry. There exist both natural and artificial BTEs.
NATURAL BTE
ARTIFICIAL BTE
EOS; Large MES
Ownership/Control over Key inputs/markets

Legal Protection e.g. Patents
Product Differentiation & Brand Loyalty
High Start-up Costs e.g. R&D

Prelims Revision
CCCA
Essay Outline
ACCA
Detailed Answer

E: (Compare PC vs M)
(PC) In perfect market conditions, PC firms are pricetakers where BTEs are non-existent. Price is determined
by market DD and SS, where DD facing the PC firm is
perfectly price elastic. Although they are able to earn
supernormal profits in the SR, PC firms can only make
normal profits in the LR.
[Candidates are required to link absence of BTE into
industry when SPN profits are earned in SR, market
SS increases, P falls, firms DD falls to min. AC and Q
falls as industry output is now shared amongst more
firms. ]
E: (PC)Use diagram to illustrate this. [next slide]

Prelims Revision
CCCA
Essay Outline
ACCA
Detailed Answer

E: Use diagram to illustrate erosion of SNP (shaded
area) in the LR as barriers to entry (and exit) are absent
in the PC market.

Prelims Revision
CCCA
Essay Outline
ACCA
Detailed Answer

E: (Compare PC vs M)
(M) Monopolies are single firms in the entire industry,
where the DD curve facing the monopolistic is very
price inelastic. Monopolists are price-setters and they
can afford to raise prices without losing many
customers. Hence, at MC=MR, their prices are higher
than the MC of producing the good. Due to the
presence of extremely high BTE, monopolists can
continue to price above AC and earn supernormal
profits even in the LR.
E: [Show diagram to compare Ms P & Q with that of
the PC next slide]
As such, PM>PC and QM<QC

Prelims Revision
CCCA
Essay Outline
ACCA
Detailed Answer

E: Draw a diagram to show comparison between P & Q
of monopoly vs a PC firm.

Prelims Revision
CCCA
Essay Outline
ACCA
Detailed Answer

L: Therefore, we can conclude that BTEs are heavy
influences on a firms P & Q decisions as they
determine each firms output quantity and price (and
hence their profit levels) in the long run.

Prelims Revision
CCCA
Essay Outline
ACCA
Detailed Answer

P: Firms pricing and output decisions also depend on
the behaviour of competitors. We will be comparing
MPC with OLI to show differences in P & Q decisions.

Prelims Revision
CCCA
Essay Outline
ACCA
Detailed Answer

E: (Oligopoly)
The existence of high BTEs result in only a few large firms
in oligopoly, each with a significant market share. Here,
there is a high degree of mutual interdependence. The
actions of one firm will affect the other firms market
share, and therefore profit levels, significantly. Therefore,
firms in oligopoly have to monitor and react quickly to
the behaviour of their competitors in order to stay viable
and earn supernormal profits in the LR.
[Show kinked DD curve & explain how the kink comes
about, where P & Q are determined.]

Prelims Revision
CCCA
Essay Outline
ACCA
Detailed Answer
E: (Oligopoly)
As shown by the kinked DD curve of an oligopoly firm,
[explain the diagram] price rigidity exists, because they
are reluctant to cut prices for fear of triggering a price
war. P and Q are hence the oligopoly firms pricing and
output decisions.

Prelims Revision
CCCA
Essay Outline
ACCA
Detailed Answer

E: (Oligopoly)
In oligopolies, price leadership and other forms of tacit
collusions can also demonstrate the importance of
competitors behaviour to a firms pricing decisions.
Because there are few large firms, the decision by the
largest firm to raise prices allows other firms to similarly
raise their prices as demand for their goods will not be
adversely affected. This also explains why cartels are
desirable to oligopolists by preventing competitors from
competing, firms can max profits by reducing output
across the industry, as OPEC does.
(Price wars, collusions and price leaderships are other
examples of firms behavior that illustrate the
interdependence of oligopolists.)

Prelims Revision
CCCA
Essay Outline
ACCA
Detailed Answer

E: (MPC)
On the other hand, monopolistic competition refers to a
market where there are low barriers to entry such that
there are many firms each selling a differentiated
product. BTEs such as high start up costs, patents or
government licensing programs restricting the number of
firms do not exist in MPC. As such there is little the
existing firms can do to stop new firms from entering the
industry and as such, like PC firms, they are able to earn
only normal profits in the LR.
However, MPC firms have some degree of price-setting
ability due to their products being slightly differentiated
from their competitors. They therefore have highly price
elastic but downward slopping DD curves.

Prelims Revision
CCCA
Essay Outline
ACCA
Detailed Answer
E: (MPC)
MPC firms are able to set P & Q to maximise profits
without depending on the behaviour of their competitors
because each firm has such a small market share that
whatever one firm gains will have little effect on the
other firms (no presence of mutual interdependence,
unlike OLI firms).

Prelims Revision
CCCA
Essay Outline
ACCA
Detailed Answer

E: (MPC)
Therefore, MPC firms seldom engage in price
competition. The existence of so many competitors make
their profit margins very low since their prices are
already very competitive. Even if one MPC firm cuts its
price, other firms would not react to the price change,
unlike in Oligopoly.
Example:
An oligopolistic fast-food industry has become
increasingly monopolistically competitive due to the
entry of several new firms in recent years e.g. Wendys,
Popeyesetc.

Prelims Revision
CCCA
Essay Outline
ACCA
Detailed Answer

Evaluation: (MPC)
MPC firms are hence able to set P & Q to maximise
profits without depending on the behaviour of their
competitors because each firm has such a small market
share that whatever one firm gains will have little effect
on the other firms (no presence of mutual
interdependence, unlike OLI firms).

Prelims Revision
CCCA
Essay Outline
ACCA
Detailed Answer

L: Thus, we see that oligopolies pricing and output
decisions depend largely on behaviour of their
competitors as compared to MPC firms.

Prelims Revision
CCCA
Essay Outline
ACCA
Detailed Answer
Body: ANTI-THESIS 1 (Alternative Objectives)

P: On the other hand, firms pricing and output decisions
also depend on other objectives of firms.
E: Firms that are able to make supernormal profits may
face the Principal-Agent Problem due to the divorce of
ownership and control. In this case, firms may choose
profit-satisficing (making a target level of profits) instead
of profit maximizing (absolute maximum level) to
appease shareholders. Other alternative objectives
include revenue maximisation (MR cuts horizontal axis),
growth max (through mergers/acquisitions) or output
max (where AR cuts AC) instead of profit max.
Evaluation: However, these objectives may not be
mutually exclusive as growth max. etc, ultimately result in
profit max and vice versa.

Prelims Revision
CCCA
Essay Outline
ACCA

decisions may also depend on the constraints that
firms face. (E.g. constraints of location, funding, small
& niche marketsetc.)
Detailed Answer
E: Firstly, for small firms, they choose not to expand

due to several DD as well as SS factors. For DD factors,
it may be due to the firm catering to niche markets,
providing direct and very personalised services, where
its efficiency may be eroded if it decides to expand. As
for SS side factors, it may be due to the lack of funds or
unwillingness on the part of the firm to take risks.

Prelims Revision
CCCA

E: Give real-life examples of small firms catering to
niche markets?
Essay Outline
ACCA
Detailed Answer
L: Thus, firms may not necessarily choose to produce at

profit-maximising output levels, and therefore will not
be constrained by BTEs and the behaviour of
competitors.

Prelims Revision
CCCA
Essay Outline
ACCA
Detailed Answer
Body: ANTI-THESIS 3 (Contestable Markets)
P: On the other hand, firms pricing and output decisions

may also depend on the potential of contestable
markets
E: Even when there are extremely high BTEs present in a
monopoly, the potential of contestable markets can
affect a firms pricing and output decisions. Monopolies
can possibly be influenced by the actions of potential
entrants, as the theory of contestable markets suggests
that limit pricing occurs as monopolies attempt to
prevent potential entrants from entering by charging
below profit-maximising prices.
L: Hence in this case, a monopolist need not necessarily
make pricing and output decisions due to high BTE and
behaviour of competitors.

Prelims Revision
CCCA
Essay Outline

decisions may also depend on presence of government
intervention.
ACCA
Detailed Answer
E: Typically, monopolists are able to enjoy immense

amount of market power and thus may not work in the
societys interest if left to their own devices (earning
huge supernormal profits at the expense of consumers,
where output is restricted results in market failure
arising from market dominance). Hence, government
intervention, where pricing and output decisions will
be affected, is necessary to prevent such occurrences
and maximise societys welfare.

Prelims Revision
CCCA
Essay Outline
ACCA
Detailed Answer

E: The government may take over the monopoly
completely and run it in public interest. This means the
monopoly is nationalised. The aim of nationalised
industries is to maximise societys welfare instead of
maximising profits. Hence over here, pricing and
output decisions of the nationalised monopolies will be
dependent on government regulation (in terms of MC
or AC pricing).

Prelims Revision
CCCA
Essay Outline
ACCA
Detailed Answer

E: Explain the diagram
MC Pricing: P at PMC Q at QMC
AC Pricing: P at PAC, Q at QAC

Prelims Revision
CCCA
Essay Outline
ACCA
Detailed Answer

E: Give real-life examples e.g. Singapore Powers
L: Hence, when the government intervenes by
regulating monopolies, AC and MC pricing, instead of
BTEs and behaviour of competitors will affect the
pricing and output decisions of these monopolies.

Prelims Revision
CCCA
Essay Outline
ACCA
Detailed Answer
Conclusion
In the absence of government intervention and
regulations, when assumed that firms aim to maximise
profits, pricing and output decisions will depend on the
existence (or non) of BTEs.
However, in imperfect markets e.g. monopoly, it is
common for governments to intervene to correct the
market failure (due to market dominance, leading to
allocative inefficiency) arising from firms P & Q decisions
(earning SNP profits at the expense of the consumers).

Prelims Revision
CCCA
Essay Outline
ACCA
Detailed Answer
Conclusion
In the case of oligopolies, the presence of BTEs resulting
in few large firms would cause firms in the industry to be
mutually interdependent in their pricing and output
decisions. Here, behaviour of competitors is therefore a
very important determinant in P & Q decisions of
oligopolists, as compared to MPC firms where there is
more independence.
Ultimately, in the real world, market structures are not so
clear-cut, and the firms ability to take account of
competitors behaviors are often uncertain.

QN 11 Market Structure (BTE and Competiton)

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Market Structures

Firms pricing and output decisions depend on

Firms pricing and output decisions depend on barriers to entry

No fixed context in terms

VJC 2013 - Firms & How they Operate

Firms pricing and output decisions depend on barriers to entry

Firms pricing and output decisions depend on barriers to entry

According to the theory of the firm, firms make their

In this essay, I will discuss whether firms pricing and

Firms pricing and output decisions depend on barriers to entry

Body: THESIS 1 (Barriers to Entry)

E: BTE determines the type of market structure a firm is in.

Firms pricing and output decisions depend on barriers to entry

Body: THESIS 1 (Barriers to Entry)

Firms pricing and output decisions depend on barriers to entry

Body: THESIS 2 (Behaviour of Competitors)

Firms pricing and output decisions depend on barriers to entry

Body: THESIS 2 (Behaviour of Competitors)

E: Draw kinked demand curve diagram (and cartel

Draw (SR and LR)P and Q and hence profit diagram of

L: Link to next paragraph to acknowledge that there are

Firms pricing and output decisions depend on barriers to entry

Body: ANTI-THESIS 2 (Constraints)

E: Compare pricing and output decisions of firms

Firms pricing and output decisions depend on barriers to entry

Body: ANTI-THESIS 3 (Contestable Markets)

E: Firms with high market power may not charge at a

Firms pricing and output decisions depend on barriers to entry

Body: ANTI-THESIS 4 (Govt. Intervention)

E: Governments may influence the pricing and output

Firms pricing and output decisions depend on barriers to entry

Conclude based on type of market structure

Firms pricing and output decisions depend on barriers to entry

Firms pricing and output decisions depend on barriers to entry

Body: THESIS 1 (Barriers to Entry)

EOS; Large MES

Ownership/Control over Key inputs/markets

Firms pricing and output decisions depend on barriers to entry

Body: THESIS 1 (Barriers to Entry)

Firms pricing and output decisions depend on barriers to entry

Body: THESIS 1 (Barriers to Entry)

Firms pricing and output decisions depend on barriers to entry

Body: THESIS 1 (Barriers to Entry)

Firms pricing and output decisions depend on barriers to entry

Body: THESIS 1 (Barriers to Entry)

Firms pricing and output decisions depend on barriers to entry

Body: THESIS 1 (Barriers to Entry)

Firms pricing and output decisions depend on barriers to entry

Body: THESIS 2 (Behaviour of Competitors)

Firms pricing and output decisions depend on barriers to entry

Body: THESIS 2 (Behaviour of Competitors)

Firms pricing and output decisions depend on barriers to entry

Body: THESIS 2 (Behaviour of Competitors)

Firms pricing and output decisions depend on barriers to entry

Body: THESIS 2 (Behaviour of Competitors)

Firms pricing and output decisions depend on barriers to entry

Body: THESIS 2 (Behaviour of Competitors)

Firms pricing and output decisions depend on barriers to entry

Body: THESIS 2 (Behaviour of Competitors)

Firms pricing and output decisions depend on barriers to entry

Body: THESIS 2 (Behaviour of Competitors)

Firms pricing and output decisions depend on barriers to entry

Body: THESIS 2 (Behaviour of Competitors)